The rebound in the Norwegian economy has been stronger than expected. After a brief downturn, housing prices have increased markedly. The rate cuts and Norwegians on "staycation" have boosted domestic demand. Thanks to higher oil prices and a tax relief package, oil investment will be less of a drag than feared. Norges Bank will probably be the first central bank in the world to hike rates.
Like many other countries, Norway was hit hard by the coronavirus pandemic. And as oil prices collapsed at the same time, the Norwegian economy looked set to be hit exceptionally hard. Many pointed to Norway as the big loser. But so far it seems that the Norwegian economy is among those that have fared best. The government’s suppression strategy brought the spread of the virus under control, and since 20 April the containment measures have gradually been eased. By mid-June most of the lockdown restrictions had been lifted, and activity has increased in line with the reopening of the economy. Norges Bank’s rate cuts have also contributed strongly to the upturn. We expect the fiscal stimulus to be significant also next year, although the budget deficit will gradually decrease as the emergency measures are phased out in step with the recovery.
The Norwegian economy has fared better than we expected in the May issue of this publication, and so far the rebound has been stronger than our optimistic scenario from May. Consumption has increased sharply, and the closed borders have helped boost retail sales in Norway. Unemployment is still significantly above normal but has declined markedly from the very high levels seen earlier. After a downturn in March and April, housing prices have increased sharply in May, June and July. In addition, higher oil prices and the tax relief package for the oil industry have improved the outlook for oil investment.
As a result of the pick-up in activity, many of those temporarily laid off are now back in their jobs. Registered unemployment, which exceeded 10% in March, had declined to 4.3% by end-August. However activity is still well below the level in early February, and employment is still markedly lower.
Norway: Macroeconomic indicators
|Real GDP (Mainland), % y/y||2.2||2.3||-3.5||4.0||2.5|
|Core consumer prices, % y/y||1.5||2.2||3.1||2.5||2.0|
|Unemployment rate (registered), %||2.4||2.3||5.0||3.3||2.8|
|General gov. budget balance, % of GDP||7.8||6.2||2.0||4.0||6.0|
|Current account balance, % of GDP||7.1||4.1||4.1||5.2||6.2|
|Monetary policy rate, deposit (end of period)||0.75||1.50||0.00||0.00||0.50|
|EUR/NOK (end of period)||9.90||9.87||10.45||10.00||9.75|
The rebound in the Norwegian economy has been stronger than our optimistic scenario from May.
Dane Cekov, Nordea Analyst
Forecasts revised up
The faster recovery until now is the main reason why we now revise up our growth estimates. The decline in mainland GDP this year now seems to be in the 3-4% range and not 6% as we assumed in our baseline scenario in May. We still expect a more gradual recovery of the Norwegian economy going forward. Infection rates remain low but have increased slightly recently. And even if a vaccine becomes available next year, it will take time before the virus is eliminated. We cannot entirely rule out a renewed flare-up of the virus and new lockdowns. But the authorities and health care professionals now have more knowledge about the virus, and we therefore consider locally targeted measures as the most likely approach to tackle cluster outbreaks. We believe that the economy will grow some 4% in 2021. The activity level will still be lower at end-2021 than it would have been without the coronavirus. But activity should reach a normal level during 2022.
As the economy continues to recover, unemployment will gradually decline further, albeit at a decelerating pace. So, we must expect higher unemployment than we have been used to for a long time. In this environment, the scene is set for low wage growth for quite some time. But as the coronavirus crisis has hit low-educated, low-income wage-earners disproportionately, the average pay level will rise. Also, the world will likely not be the same as it was before the crisis. Capacity in hard-hit sectors may have to be permanently reduced. This could lead to an increased mismatch in the labour market going forward as well as a slightly higher natural rate of unemployment. Consequently, we may see wage pressure at a somewhat higher unemployment level than we have been used to.
Households will be the engine behind growth
Household demand has increased markedly in step with the reopening of the economy. Nordea’s card transaction data show that household demand to a larger extent has been concentrated on goods, but consumption of services is also gradually rising. After strong growth in both April and May, retail sales increased by almost 6% in June and were up 14% compared with last year. Key factors driving this trend were the restrictions on foreign travel and Norges Bank’s rate cuts. With Norwegian households’ relatively high debt burden, lower interest rates will offset the loss of income due to higher unemployment, in aggregate. And, given the continued travel restrictions, a lot of the money that is normally spent abroad will instead continue to benefit Norwegian businesses. Conversely, sustained high unemployment and low real wage growth are factors pulling in the opposite direction. But the government’s aid packages will to some extent compensate those without a job for their loss of income.
Housing prices will continue to rise
The past months’ strong housing market trend shows that Norwegian households remain confident about the future, despite the markedly higher unemployment rates. The reopening of the economy has supported the positive sentiment, but the key factor prompting the reversal of the housing market was Norges Bank’s rate cuts. All else equal, the rate cuts mean that home buyers with ordinary instalment loans can bid up housing prices by 15-20% without weakening their current household finances. We consequently expect housing prices to continue to rise over the forecast period.
In March and April the housing market was affected by the high uncertainty about the future, and new home sales declined markedly. Property developers were quick to respond by postponing new projects. This hit the construction sector hard, which is the second largest sector measured in terms of employment in Norway. Since April, the situation in the housing market has improved markedly. Prices are rising, home buyers have returned to the market and demand for new homes has also seen a healthy increase. As a result, the outlook for the construction sector has brightened. We expect an increase in housing starts going forward.
Oil investment will fall less than feared
Owing to the oil price drop in March and April, oil companies postponed projects and cut their investment budgets. It was widely agreed that oil investment on the Norwegian shelf would plummet and that it would be a drag on growth in the years ahead. In the May issue of this publication, we argued that a fair estimate would be a drop in investment activity by some 20-25% over the two-year period 2020-21.
We now think that the drop will be half of that. The reasons are twofold. First, oil prices have now risen from around USD 20/bbl to USD 45/bbl and remained around this level for some time. Second, we have the tax relief package for the oil industry passed by the Norwegian parliament to support oil-related industries and secure jobs. This package has reduced the average breakeven oil price on new projects by some 40%. As a result, shelved projects are back on the table again, dampening the fall in oil investment.
Stronger NOK ahead
The NOK has strengthened markedly since May, driven by higher oil prices and improved sentiment. Short term, we cannot rule out new bouts of NOK weakness as the NOK is vulnerable to global risk sentiment. But over time, we see a good chance of the NOK strengthening further versus the EUR and especially the USD.
As economies continue to recover, oil demand and oil prices will move higher. Oil prices are a key driver of EUR/NOK. At present, there is a lot of spare production capacity around the world. Consequently, a sustained pick-up in oil demand will be met through increased production. This caps oil prices in the near term. But over time, the amount of spare production capacity will decrease. Also historically, investment cuts are often followed by oil shortages. The reason is that continuous investment is needed to maintain a certain production level, and this year investment has been trimmed sharply. So in a couple of years’ time, oil prices may well be significantly higher than today. In that case, we may see a significantly stronger NOK. After several years of dollar strength, we think the USD will weaken. Hence, the NOK should strengthen more versus the USD than versus the EUR.
Norges Bank will be the first central bank to hike rates.
Kjetil Olsen, Nordea Chief Economist, Norway
Norges Bank will not cut rates any further
Norges Bank has clearly signalled that is does not like negative interest rates. The experience from other countries is mixed, and the bank is uncertain about whether negative rates are beneficial for the economy. Consequently, the policy rate will not be cut further. This creates a clear asymmetry going forward. And things may change fast. After cutting its policy rate to zero in May, Norges Bank signalled that the rate would remain on hold for a long time and in any case through 2023. One month later in July, the Bank signalled as the first central bank in the world that it expected to hike rates again from H2 2022. Norges Bank has clearly stated that it would hike its policy rate faster if the recovery proves stronger than expected or if housing prices rise sharply and there are signs of financial imbalances building. The latest rate cut from 0.25% to 0% in May was partly sanctioned in order to reduce the risk of plummeting housing prices. Now the risk assessment has turned the other way around. Although the trend in unemployment will be decisive for interest rates over time, we see a clear probability of Norges Bank hiking rates earlier than it has signalled. In any case, we expect that Norges Bank will be the first central bank to hike rates.
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